Municipal bonds — which are issued by states and cities — are known for two things: low volatility and high dividends, asserts Michael Foster, closed-end fund expert and editor of CEF Insider.
And when it comes to buying munis, the best way to do so is through a closed-end fund (CEF), as the muni market can be tough for individual investors to access.
We’re going to add a closed-end municipal-bond fund to our portfolio; Eaton Vance Municipal Income Trust (EVN) yields 4.6% and trades at a big discount to its net asset value (NAV, or the value of the muni bonds it holds).
EVN’s dividend is 2.4 times what the S&P 500 yields. That’s great, but to get a true sense of EVN’s income stream, you need to look at its taxable-equivalent yield for your tax bracket. For instance, if your federal tax rate is 28%, this fund’s dividend is the same as a 6.4% yield in a (taxable) corporate-bond or stock fund.
Cynthia Clemson, a fixed-income pro who’s been with Eaton Vance since 1985, manages EVN and has done so since 2015. Since then, she’s doubled the muni-bond index’s return.
The fund has spread its assets across a variety of states, largely market-weighting its exposure to the size of a state’s revenue. That vastly reduces default risk, especially when we consider that municipal-bond default rates have historically been less than 0.01%, and defaults haven’t been rising, even during the COVID-19 crisis.
And let’s not forget our second “safety net” with muni bonds: the Federal Reserve, which, in response to the crisis, is injecting cash into the muni market. In essence, the Fed is telling us to buy munis here — and as the Wall Street adage goes, it never pays to fight the Fed.
Also, since the Fed has said it won’t raise interest rates until 2022 (and, let’s face it, probably later), interest-rate risk isn’t a concern for munis now.
All of this has emboldened Clemson to lever the fund, which currently has a 37.3% leverage-to-assets ratio. Considering this safety, income and outperformance, EVN is priced cheaply: its 10.2% discount to NAV is nearly double its long-term average of 5.1% and is bigger than it was pre-crisis, too.
In short, EVN’s conservative approach has resulted in a sustainable income stream that’s underpriced in a market where many other investments are overpriced. And that makes it a timely buy for big, tax-free dividends and to help cut our volatility in the next pullback.
